What Deutsche's bankers should be most afraid of

When Deutsche Bank decided to do away with performance-related bonuses last year, it was supposed to be a one-off. Alasdair Warren, the bank's head of corporate and investment banking for EMEA, reportedly told juniors at a DB town hall that this year's bonuses will be much better than last. Similarly, Marcus Schenck, head of the corporate finance and capital markets business at Deutsche, said in February that last year's dismal bonuses were not intended as a recurrent theme. "In 2017 we will do everything... [so] that we get back to normal compensation rounds," said Schenck.

This is the aspiration. As 2017 progresses, however, it's starting to look like a tall order. As the chart below shows, revenues at Deutsche's corporate and investment bank (CIB) fell 16% in the second quarter. The decline was precipitated by declines across fixed income trading (down 12%), equities trading (down 28%), and debt capital markets (down 24%). Only Warren's business of M&A boomed (up 90%), along with equity capital markets (up 23%), but it wasn't enough to stop the revenue rout.

Even so, Deutsche Bank dramatically increased CIB profits. Again, as per the chart, they were up 18% in the second quarter. Deutsche's shareholders should be happy.

Employees, however, may feel a twinge of apprehension. Both the revenue and cost lines for Deutsche's corporate and investment bank contain reason to wonder what happens next.

In revenue terms, Deutsche's under-performing equities business raised the biggest flag. The bank blamed its second quarter misery in part upon "significantly lower" prime finance revenues, "reflecting lower average client balances, lower activity levels and lower margins." When Deutsche had its near-death experience last September, various hedge funds pulled money from its prime finance business. This indicates that they haven't put it back. As Markus Riesselmann, an analyst with Independent Research, told Bloomberg, "The revenue miss shows that it’s taking Deutsche Bank longer than expected to regain market share."

Similarly, Deutsche Bank spent the opening months of this year avowing its intention of recovering the market share it lost in fixed income trading while it was at death's door. Today's results suggest this isn't entirely going to plan - fixed income trading revenues fell in the second quarter. However, Deutsche's fixed income sales and trading business did shrink by less than Goldman, J.P. Morgan and Bank of America's year-on-year in Q2 and is up 25% on the first half, so maybe things aren't that bad here. The bank itself blamed its fixed income failings partly upon the U.S. rates trading business, which reportedly made a $60m loss under Jacob Bourne, who left the bank earlier this month.

It's the cost line, however, that contains the greatest reason for employees to fret. Deutsche's dramatic increase in CIB profits despite its dramatic decrease in CIB revenues came after the bank cut general and administrative expenses by 16%, saving €523m in a single quarter. It also saved €279m in impairment costs and €30m on restructuring expenses. The bank is clearly trying to protect compensation, spending on which fell only 2% in the corporate and investment bank in the second quarter, and is down only 2.5% year-on-year on a per-head basis in the first half.

Even so, Deutsche's compensation spending doesn't look great given that the German bank is supposed to be increasing pay for people in its corporate and investment bank in 2017.

Nor does it look great if Deutsche's revenues continue falling. The bank faces significant non-compensation cost pressures this year and next. As CEO John Cryan told Bloomberg this week, Deutsche needs to completely update an "antiquated" technology system. It also needs to add to its compliance headcount to avoid a repeat of recent fines - the number of support staff allocated to the CIB rose by nearly 1,400 people in the past three months, even as front office employees fell by 400. And it needs to pay to shift business to Frankfurt under, "operation bowline".

To pay for all this, whilst increasing pay for its front office bankers, Deutsche needs its investment bank to be generating strong revenues. If it doesn't, it will need to cut costs somewhere. The danger is that the lowest hanging fruit have already been cut. If revenues don't pick up soon, Deutsche's bankers should probably start fearing for their 2017 bonuses too.